Chapter 13 Instead of Chapter 7?

In 2005 Congress passed the Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCPA)which then-President Bush signed into law.   Among the many changes that BAPCPA brought with it was a new “means test” which required all personal bankruptcy filers to calculate their adjusted income against the median income for a family of the same size in the same state.  While there are a number of authorized deductions which one can calculate to reduce adjusted income, the goal was to force those whose income is, under the Means Test, above the median for the state in which that person lives, to file for Chapter 13 bankruptcy instead of Chapter 7 bankruptcy.

Chapter 13 bankruptcy includes a 3-5 year repayment plan of at least a portion of unsecured debt prior to being granted a discharge.  Chapter 7, conversely, includes no repayment plan, and while in theory it is a liquidation, for most individuals filing for Chapter 7, there are no non-exempt assets available a discharge is usually granted in 4-5 months after filing the petition.

For a great number of people Chapter 7 is the best option, and only the Means Test will cause those individuals to consider Chapter 13.  However, some people, even some who may “pass” the means test and be eligible for Chapter 7, will find that Chapter 13 provides the best option.

Let’s take a quick look at those people who cannot file for Chapter 7, such as those whose adjusted income is above the median income for their state as calculated under the Means Test.  In addition, anyone who has already received a discharge under a Chapter 7 case filed more than 4 but less than 8 years ago will not be eligible for Chapter 7 and may have to consider a debt adjustment plan under Chapter 13.

However, as I mentioned above, there are a number of people for whom a Chapter 13 is more advantageous regardless of their eligibility for Chapter 7.  A great example is someone who owns a house with a mortgage and is behind on their mortgage payments.  Chapter 13 allows a debtor to pay her mortgage arrears over the course of the plan (up to 5 years), thus allowing a debtor the ability to stay in her home and avoid foreclosure.  Chapter 7 provides no such instrument for payment  of mortgage arrears, and therefore, in practice a debtor who is behind on mortgage payments at the time of filing the petition will likely face eventual foreclosure on her home, unless an agreement can be worked out for repayment of arrears.

Another advantage of Chapter 13 that is not available in Chapter 7 is the ability to strip off (a.k.a. “cram down”) a mortgage that is wholly unsecured.  Specifically, where a debtor has more than one consensual lien (i.e., a mortgage) on her home, where the value of the debtor’s residence is less than the amount due on the first mortgage and where the debtor has a second mortgage, the second mortgage is, in reality, wholly unsecured.  Chapter 13 (and not Chapter 7) allows a debtor facing such a scenario to force the second mortgagee to be treated as unsecured and receive only the dividend that would be available to an unsecured creditor under the bankruptcy plan.  The rationale for this treatment is that were the house to be foreclosed upon, the second mortgagee would likely receive no distribution from the sale proceeds, and thus is not entitled to secured treatment in the bankruptcy.

An experienced bankruptcy attorney can help you to determine whether Chapter 7 or Chapter 13 bankruptcy might be the right for your individual circumstance.  Call the Law Offices of James Wingfield at 508-797-0200, or visit our contact page to schedule a no-obligation, no-cost consultation.